Metrofile – Why I expect earnings to grow and the dividend to shrink temporarily

metrofile

Metrofile is a business directly in my sweet spot. It is boring, it is ready to grow in Africa, it carries an attractive valuation, generates buckets of cash and pays a healthy dividend. In keeping with their boring nature, MFL recently produced decidedly unspectacular results for the 6 months to December 2017. Earnings were pretty much flat after adjusting for the once-off profit from the sale of a small subsidiary. They earned 15.6c/share for the period. After reading through the results, I have come to the conclusion that their earnings are likely to increase in the second quarter for the following reasons:

  • The expended R45m on expansion capital. Assuming that these projects were justified on an IRR of at least 10%, this should add about R4.5m to annual earnings or about 0.5c for the next 6 months.
  • Despite tough political conditions in Qatar, they grew revenue from Africa and the Middle East. When Qatar turns around, which it is already showing signs of doing, this will continue to grow earnings from this area. Let’s give it a 10% growth from that area or 0.3c.
  • They bought Secure Data Solutions (SDS) in Kenya for approximately R280m, with an annual EBTDA contribution of approximately R28m. This is a pleasing acquisition, as it grows their footprint onto Africa, where much growth for this business is likely to come from, given the constraints imposed by bureaucracy across the continent, coupled with a very positive outlook for Africa in the medium term. Importantly though, the deal will be earnings enhancing from the outset. Assuming a cost of debt of 8% for Metrofile, this deal should contribute approximately R6m to earnings, which is equal to 1.5c per share per year, or 0.7c for the next 6 months.
  • Metrofile shares are trading at bargain prices. Chairman Chris Seabrook showed what he thought of the value, when he recently purchased R52m worth if shares at R3.50/share. The business is also taking this opportunity to buy back shares, something that undervalued South African businesses do not do enough. In the first 6 months of the year, they bought back 5m shares at R3.99/share. This means that they bought back 1.2% of the company. All other things being equal, this alone should result in an increase in earnings of 1.2%, which is equal to 0.1c/share for the next six months.
  • Management writes the following in the results. “Metrofile remains well placed in the forefront of an industry that is evolving rather than shrinking. Metrofile anticipates a stronger second half earnings.” I love it when companies I own are that positive about the future of their business. I will give them an extra 0.5c/share for the optimism.

These factors add up to growth in earnings for the second half of 2.1c, total earnings of 17.7c, putting the share on forward earnings of 35.2c or a PE of 10.

Whilst this is excellent news, I also think the dividend will reduce slightly. The group previously announced that they would increase dividends until they had reached targeted debt levels of at least 1.5 times EBITDA. With the recent acquisitions and expansion capex, debt is at approximately 2.5 times EBITDA, indicating that management has more than achieved its debt targets. This, in turn, means that we can expect dividend cover to revert back to the historical level of 1.5. I therefore expect dividends to be about 11-12c for the second half, putting Metrofile on a forward yield of 6-7%.

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